The Lyons Company is currently a company providing storage of documents for other corporate customers. Lyons had operated conservatively without any long-term debt until it issued bonds in 1999. The bounds issued were $10 million in 20-year bonds, offering a coupon rate of 8% with interest paid semiannually, and sold to yield the 9% market rate of interest at the time. In the following essay, we take it as Alternative 1.
These bonds were issued on July 2, 1999 and would be due July 2, 2019. But now, the investment bankers told the company’s owner, Mr. Lyons, that $10 million in new 6% bonds with semiannual interest payments could be issued to provide the company with exactly $10 million in principal at the end of 10 years. The new interest payments would be $200,000 less each year than old bonds, which still had 12 years before they would be paid off. We take issuing these new bonds as Alternative 2. If it is selected, 11542K/1K=11542 new bonds will Lyons have to issue to refund the old bonds.
There is also a third alternative: Issuing $11.54 million of 10-year 6% bonds to completely pay-off the existing bonds with no need for additional cash from the company.
Now, we are facing the problem that if Lyons should issue one of the new bonds with lower interest rate or keep the existing bonds.
One Concept about Bond
First I want to talk about the terms of “premium” and “discount”. Usually there will be difference between the face value of the bond and the actual amount of money that the borrower receives when the bond is originally issued. This difference is called premium or discount. If the amount received is larger than the face value, it is called premium. If it is smaller than the face value, it is called discount.
With this definition, we come to compute exactly how much the company received from its 8% bonds amount received by the borrower. The value, VN, is...